Strong traffic growth but fuel price is a risk

We estimate 3Q18 (out 13 Feb) core net profit of SGD259m, which would be 2% lower y-o-y, but in line with our estimate.

We see better capacity discipline in the long-haul market as load factors have held up well and there is scope for yield improvement as the industry tries to offset the recent rise in fuel prices by raising fares.

Our earnings forecasts, Target Price of SGD10.95 (pegged to its long-term P/BV mean of 0.93x) and HOLD are unchanged.

Good operating statistics

Management has done very well in filling up the aircraft. Overall traffic (passenger + cargo) in 3QFY18 grew by 5.9% y-o-y and load factor rose by 2.8ppt y-o-y to 73.5%. This is the best overall load factor performance since 2010.

We think passenger yields will be a modest 1% decline y-o-y but cargo yields will be very strong with 9% y-o-y growth. Overall yields (passenger + cargo) should be fairly unchanged y-o-y.

Outlook clouded by rising fuel prices

We note that Asian carriers have been very clinical in dispersing capacity in 2017 and the outlook statements by industry executives suggest 2018 capacity output will be equally modest. Furthermore, the recent rise in fuel prices will sway airlines to push for higher ticket prices, thus potentially reversing the industry passenger yield downtrend since 2014.

SIA has hedged 47% of its FY19 fuel requirements at USD55/bbl (Brent) and this will provide some cost advantage relative to competitors.

Trading at close to its long-term P/BV mean

The Company is trading at 0.92x FY18 P/BV, which is close to our fair value of SGD10.95.

We don’t foresee any obvious catalyst to re-rate the stock in the near term and hence maintain HOLD.

Operating Statistics

Traffic growth was healthy

Passengers carried by the Group grew by 7.6% y-o-y to 8.7m in 3QFY18, bringing 9MFY18 passenger growth to +7.0% y-o-y. This is well above its long-term average of 5% growth (excluding the Tigerair acquisition y-o-y comparison), which suggests passenger traffic growth was very healthy.

The cargo business segment was also buoyant. Freight carried grew by 4.1% y-o-y in 3QFY18, bringing 9MFY18 freight carried to +4.5% y-o-y.

Load factor

The Group passenger load factor soared by 3.1ppt y-o-y to 82.1% in 3QFY18, bringing 9MFY18 passenger load factor to 81.4% (+2.8ppt y-o-y). The long-haul segment, namely SIA and Scoot, has performed exceptionally well whilst Silkair’s load factor growth was more modest.

The stronger load factor performance is due to better industry supply-demand dynamics whereby Asia Pacific-based carriers are disciplined in deploying capacity and have been successful in closely matching it with demand growth.

Cargo load factor has improved by 2.4ppt y-o-y to 68.3% in 3QFY18, bringing 9MFY18 cargo load factor to 66.0% (+3.0ppt y-o-y). This is the highest recorded load factor since 2010, which attest that the segment is performing very well.

The air cargo industry has been performing very well in the past two years, driven by growth in the electronics segment, rise of internet retail sales and the fact that many carriers have fundamentally reduced their excess cargo capacity.

Yields are showing signs of recovery

Passenger yields have been on a downward trend since late 2014 when crude oil prices retracted. The industry has shared part of the savings from lower fuel prices in terms of lower ticket prices.

Going into 3QFY18 onwards, we think there is scope for yields to trend upwards as carriers are trying to raise ticket prices to offset the rise in crude oil prices since Oct 2017. We have observed that many airlines including SIA Group have raised their published fares. As passenger demand and load factors have held up strongly in 3QFY18, this should give rise to growth in yields.

Cargo yields have been on an uptrend since 2Q17, driven mainly by the electronics sector and internet retail sales. In addition, the industry had shed excess capacity in 2014-16 and consolidated the market.

Valuation and recommendation

Fair value of SGD10.95

SIA's share price has been trading close to its historical one standard deviation below its P/BV mean for the past two years. We believe SIA should trade at least at its mean of 0.93x P/BV as its business risks have significantly been reduced thanks to lower fuel prices, fuel hedges at attractive levels and as the cargo business unit has turned around.

Based on 0.93x FY18 P/BV, we derive a fair value of SGD10.95. There is not much upside from the current share price and therefore maintain HOLD.

Swing Factors

Upside

Yield is the most important earnings driver, and the trend has been negative for the past four years.

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